Red Hat

How Microsoft can disrupt the tech industry again

April 8, 2014: 5:30 PM ET

By rethinking its acquisition strategy, the computer software and electronics company can be an innovator in growing sectors, such as cloud services, smart phones and teleconferencing.

By Mike Kwatinetz

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FORTUNE – Microsoft's stock has stagnated as investors have lost faith in the company's plans for its future. After peaking at just under $60 a share in early 2000, Microsoft's stock fell to about $22 later that year and has traded mostly between $25 and $40 a share in the 14 years since then. While revenue and earnings per share have more than tripled since then, the stock price has not followed suit. What Microsoft could do can be answered fairly simply: Take a page out of Facebook's apparent strategy and buy best of breed next generation companies.

Microsoft can improve its prospects by dominating three areas: Operating systems, development tools and conferencing. It's clear that development is shifting to virtualization and the cloud. Cloud IaaS is becoming the center of gravity for developers. According to The Cloud Market, Linux variants account for over 90% of the applications on Amazon's Elastic Compute Cloud (EC2). The EC2 data indicates that a large number of developers prefer developing in Linux for the cloud.

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Microsoft (MSFT) is losing many customers by not having a more robust integration with Linux in its cloud. While Microsoft claims to be supportive of Linux, other cloud providers like Amazon (AMZN), VMware (VMW), IBM (IBM) and Salesforce.com (CRM) are actually doing much more to support Linux. If one considers all devices, including smart phones and tablets (the Android Operating System is based on the Linux kernel), Linux's unit share is about twice that of Microsoft Windows. I am not suggesting that Microsoft abandon Windows -- it is still a great product with lots of legs, but I am suggesting that a dual OS strategy would give it an opportunity to:

  • Compete more effectively on smart phones and tablets
  • Have a cloud offering that all companies could consider for every application
  • Offer a lower cost server line that would be appealing
  • Have better retention of its corporate customer base

A way to put a stake in the ground is to buy Linux provider, Red Hat (RHT). With such an acquisition and its deep integration into Microsoft Azure, Microsoft would be well positioned as a leader in IaaS. In addition to Linux, Red Hat has a strong Open Stack player that could leverage open source application programming interfaces as a disruptive, strong alternative to Amazon Web Services (AWS). Such an acquisition would quickly become accretive as Microsoft's reach into the Enterprise Linux workload could accelerate their short-term growth as a Cloud player and propel them into a dominant leadership position in the cloud.

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According to W3Techs, PHP is being used by over 80% of all websites (other estimates have it as low as 50%). PHP's growth continues to accelerate on the backs of the shift to mobile and the rapidly expanding footprint of popular apps like Drupal, Magento and WordPress. Like Linux, it is a dominant tool for the next generation of cloud-based web and mobile applications. Microsoft should recognize the need to be the major player in PHP and acquire the market leader, Zend. I'm not necessarily saying this because Zend is in my firm's portfolio, but rather because I believe the ownership of Zend would re-ignite Microsoft's sway with developers.

It also would better enable Microsoft to add features to its cloud offering that would optimize for those choosing to use PHP. This, along with a strong Linux position, would help Microsoft compete more favorably as a cloud provider. By having robust developer value creation strategies for both their traditional .NET base and PHP, Microsoft would be addressing the vast majority of web and mobile development and send a clear signal to the market that the next generation of applications should be built on Microsoft Azure.

The third suggested acquisition is a company called Double Robotics. Double offers a remotely controlled, robotic mobile teleconferencing system. A tablet is placed as the head of the robot and it displays the image of the person telecommuting. From anywhere in the world, it allows a user to have a physical presence in the office and speak to co-workers as if he or she were present. Skype is likely to come under attack from a variety of sources and getting out in front with a next generation product like Double would help Microsoft maintain share and increase revenue. Strong sales of this product could help increase Microsoft tablet sales. It would be important for Skype to continue to support the iPad as an option for the Double robot.

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These three acquisitions, taken together, would show investors that Microsoft CEO Satya Nadella is changing the way the company operates by acquiring best of breed companies that position it to offer premier cloud services across all platforms, make its smart phones and tablets more competitive, increase its footprint in the server OS and be the innovator in teleconferencing.

Putting this in perspective, Facebook has a lower market cap, less funds and weaker cash flow than Microsoft.Yet Facebook CEO Mark Zuckerberg spent $16 billion on WhatsApp fully recognizing the additional customer dominance in social that this provides. The cost of these three companies should be less than $16 billion and yet could have an even larger impact for Microsoft. Such exciting and relevant acquisitions by Microsoft would also likely payback not only in revenue growth but immediately in stock price.

Mike Kwatinetz is a founding general partner at Azure Capital Partners, where he specializes in software and related infrastructure technologies. This post is from his blog, SoundbytesII.

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